Charles Schwab vs Merrill Lynch

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CREATION OF ONLINE DISCOUNT BROKERAGE HOUSES AND THE THREAT CAUSED TO GIANT CORPORATIONS BY A SMALL COMPANIES: CHARLES SCHWAB VS. MERILL LYNCH.

BY:
MBA STUDENT

ABSTRACT

Technological innovations and development of high speed internet in late 1980s created opportunity for many businesses playing in financial markets to change their strategy and find new ways of fighting against competition and apply competitive advantage tools in succeeding in their business. On the other side, investors benefited from this as well. Now, they had new ways of investing their capital and spare resources with little cost and more opportunities to invest. This led to the creation of Electronic Communication Networks (ECN) in financial markets, which caused dramatic impact on how financial markets operate and on how stocks are traded. As a result, firms with strong leadership and management took some risk, changed strategies in conducting part of their business and entered financial markets through the Internet. They started to provide online services. Now, small companies like Charles Schwab could easily compete with companies like Merrill Lynch, who was giant Investment Banking firm. In traditional financial markets Investment Bankers played the role of intermediary for firms and companies to issue stocks and bonds with the purpose of raising capital. The internet was going to destroy their business and push them out of the business. At the same time, these virtual financial markets created strong financial risks to those companies involved with online IPOs and they had an option to choose between traditional approach and online IPOs. This paper analyses how Charles Schwab was successful in putting Merrill Lynch business in danger by providing almost the same type of services online. INTRODUCTION

In the past few years there has been a growth in Internet markets where companies and investors can get advice on buying and selling corporate stock online. This was mainly due to the network called Electronic Communication Networks. ECNs were created out of the Nasdaq Market Makers Antitrust Litigation led by William Lerach. The litigation alleged collusion among Wall Street traders, and was proven in 1998, leading to a $1 billion settlement from major Wall Street firms. At the time of the settlement, the SEC also put in a new regulation, the Limit Order Display Rule (rule 11Ac1-4), which authorized "electronic communication networks", or ECNs. Since then firms and investors found it very easy way of raising capital and investing at a relatively low cost, without incurring any trading costs. This led to the creation of online brokerage houses who facilitated transactions on behalf companies who wanted to go to public for the first time. These companies were reluctant to give much of their money to traditional Investment Bankers because of the cost of their services. In fact, by early 1999, the mechanics of Internet IPOs had quickly progressed from the first phase, a partial distribution of IPO shares directly to investors via the Internet, to the actual determination of the offer price and the allocation of shares through an online auction process. Internet-based investment banks provide companies with a choice of whether to use a traditional investment bank, or one that provides the new online services to distribute some portion of their IPO. When companies are considering an IPO they must identify which channel(s) they wish to use to distribute the IPO. This is an important decision because it potentially affects all public companies, or companies considering going public, the investment banking industry, and all stock investors. The importance is also indicated by the fact that in 1999 a record $74 billion was raised through 511 initial public stock offerings with new issues posting an average first-day gain of 68.3 percent. The traditional IPO process involves the issuing firm, an investment bank that acts as an intermediary between...
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